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Tax Court disallows cost segregation of apartment building components

In a case exploring the extent of allowable cost segregation in
depreciable rental real estate, the Tax Court held that all but a
small handful of items identified by the building’s owner had to be
depreciated over the life of the building (AmeriSouth
XXXII, Ltd., T.C. Memo. 2012-67).

AmeriSouth, a limited partnership, bought an apartment complex in
2003 for $10.25 million. AmeriSouth commissioned a cost-segregation
study and then attempted to depreciate more than 1,000 building
components over five- or 15-year spans, instead of the 27.5 years
applicable to rental real estate under MACRS. Using its
cost-segregation method, AmeriSouth deducted $3,029,029 for
depreciation in the years 2003–2005.

The IRS audited the partnership under TEFRA and disagreed with
AmeriSouth’s treatment of the components; it denied $1,079,751 in
deductions for those years. The case ended up in Tax Court, where the
IRS also argued that AmeriSouth was attempting to depreciate some
assets it did not own.

About the time the case was tried, AmeriSouth sold the apartment
complex and subsequently stopped responding to communications from the
court, the IRS, and even its own attorneys. The court allowed the
attorneys to withdraw from the case. When AmeriSouth failed to file a
post-trial brief, the court could have dismissed the case entirely,
but instead it decided the case, deeming any factual matters not
contested to be conceded by AmeriSouth.

The court looked in depth at the components in each of the 12
categories AmeriSouth had identified for faster depreciation: site
preparation and earthwork; water distribution system; sanitary-sewer
system; gas line; site electric; special HVAC; special plumbing;
special electric; finish carpentry; millwork; interior windows and
mirrors; and special painting.

Based on its examination of the facts, the court sided with the IRS
in all but a small handful of instances, holding that most components
were structural components, integral to the buildings’ operation and
maintenance, and therefore depreciable over the life of the building.

The only components AmeriSouth won on were clothes dryer vents; gate
components; outlets and timers relating to watering of the grounds;
surveillance components (camera and TV); refrigerator, stove, and
washer/dryer outlets; and cable, telephone, and data outlets.

The results of the 2016 presidential election are likely to have a big impact on federal tax policy in the coming years. Eddie Adkins, CPA, a partner in the Washington National Tax Office at Grant Thornton, discusses what parts of the ACA might survive the repeal of most of the law.